Murthy panel pitches for friendly tax regime for VCs, PEs

Pitching for significant changes in norms governing venture capital and private equity funds, a Sebi panel has recommended favourable tax regime and steps to bring in long-term funds from domestic and overseas investors.
The suggestions of the committee, chaired by Infosys founder N R Narayana Murthy, come at a time when the government is pursuing its ambitious 'Start-up India' initiative to bolster entrepreneurship and create more jobs.
Apart from calling for favourable taxation framework and ways to unlock domestic capital pools, the panel has also recommended promoting onshore fund management and reforming the current Alternative Investment Fund (AIF) regime.
A key proposal is for introduction of Securities Transaction Tax (STT) for private equity and venture capital investments.

Venture capital funds and private equity funds with fund managers domiciled in India, that have been registered with Sebi post 2012, have been classified as AIFs.
According to the committee, an appropriate rate of STT could be introduced "on all distributions of AIFs, investment, short-term gains and other income and eliminate any withholding of tax. After STT, income from AIFs should be tax free to investors".

Recommendations by the committee can be a 'game changer' for attracting investments into the AIFs, Girish Vanvari, Partner and National Head of Tax at KPMG in India said.
To ensure that investors do not pay more tax than they would, had they made the investments directly themselves, the panel has suggested for making tax 'pass-through' work effectively.

The exempt income of AIFs should not suffer tax withholding of 10 per cent. Investment gains of AIFs should be deemed to be 'capital gains' in nature.
To ensure that there are not too much hassles in attracting overseas funds, it has said the government should clarify the rules for investment by non-resident Indians (NRIs) in AIFs on a non-repatriation basis. Clearing the ambiguity in this regard would help NRIs invest in AIFs using funds in their rupee accounts, among others.
"Once implemented, the recommendations will help attract significantly more capital from offshore and Indian investors into Indian private equity and venture capital," the panel, which submitted its report to Sebi, said.

Sebi had constituted a 21-member standing committee 'Alternative Investment Policy Advisory Committee' in March 2015 with the mandate to prepare a new regulatory framework for start-ups and alternative investments.
Sanjay Nayar, chief executive officer of KKR India Advisors, Ajay Piramal Chairman, Piramal Group; Devinjit Singh MD, Carlyle Group; Arvind Mathur President, Indian Private Equity & Venture Capital Association, are among the members of the panel.
Between 2001 and 2015, venture capital and private equity funds worth over USD 103 billion flowed into Indian companies. The money was put in over 3,100 firms across 12 major sectors.
The committee has recommended wide-ranging reforms to

help unlock diverse domestic sources of capital such as domestic pension funds, insurance companies and charitable endowments.
It has also susggested for making safe-harbour effective for managing funds from India. To attract foreign capital by having fund managers based in India, it is important that their operations in India are not treated as permanent establishments under Double Taxation Avoidance Agreements (DTAAs), the committee has suggested.
Currently most fund managers of offshore funds manage their investments from offshore locations rather than from India. This is a disadvantage to both them and India.
The panel said that proactive measures need to be taken to attract fund managers to India due to the beneficial impact on the Indian economy and the creation of a robust eco-system to boost entrepreneurship, job creation and GDP growth.

"In order to sustain the continued growth of the AIF industry, the path ahead requires reforms in the enabling regulatory framework for AIFs," the panel noted.
According to Vanvari, tax suggestions with respect to making pass through effective without a 10 per cent leakage, non taxation of capital invested as deemed income, clarity on indirect transfers at fund level and safe harbor effectiveness for Indian management teams of AIFs is much needed.
"Further, other recommendations on taxability of income of AIF as capital gains as against business income will avoid unnecessary litigation and build in more certainty. The measures suggested to attract foreign capital into AIF is also laudable," he added.

The suggestion on exemption from service tax on services for raising funds from overseas investors can also be a big boost, Vanvari said.
"All in all if properly executed, these recommendations will go a long way in strengthening AIFs in India thereby channelsing more capital into the development of the country," Vanvari noted.